The debate on coupling versus de-coupling rages endlessly. The de-coupling argument about the global economy suggests that notwithstanding a US recession or slowdown (and therefore consumption slack), it can be compensated by the high growth of Asian countries like India, China, Malaysia, Indonesia and their rising consumption. However, US consumption of over $ 9.6 trillion, or 19 per cent of world GDP, compared to the $ 2.5 trillion of all these countries limits the extent to which Asia can compensate for the US slack. No doubt in the medium term, high growth in these countries with a much younger population has positive multipliers. But it will be quite a while before global prosperity can be decoupled with the state of the US economy. When it comes to India, we have no doubt become much more inter-dependent, and trade as a percentage of GDP is 35.9 per cent, while exports as a percentage of GDP is now around 15 per cent. Within this number, export to the US is only 2.12 per cent of GDP. It is suggested that notwithstanding a US slowdown, rising consumption and investment in India can sustain economic buoyancy and there is a long way to go before our needs are saturated. However, the US slowdown will also affect Europe and other countries in Asia and we would be affected not merely by slowdown of exports to the US but other destinations due to wider contagion effects. Its severity could be less than many other countries. In a broader context, the medium-term risk for global growth was the subject of animated discussions in Davos. The question of what constituted the single biggest risk evoked a mixed response, which included: • Recession in the US • Income inequality • Rise in energy and commodity prices • Global credit crunch • Mismanagement of current crisis • Collapse of confidence • Rising of protectionism • Over reaction to threat of recession • Lack of coordinated response and leadership When a vote was taken which out of the above constituted the single biggest risk the voting outcome was revealing. On top of the list was a lack of coordinated response and leadership, which received 18.5 per cent, with mismanagement just over 18 per cent, while collapse of confidence got 16.7 per cent. So what would be the components of addressing these concerns? First, there is no doubt that regulatory failures and inadequacy of coordinated response, as well as inadequate information sharing between regulatory and enforcement entities, resulted in the contagion effects of the sub-prime mortgage. How is it that rating agencies systematically under-priced risk promoting multiple forms of financial engineering and derivatives with no one spotting the inevitable collapse of an over extended bubble? It is always easier to become wiser after events and perhaps over-react. The enactment of the Sarbanes-Oxley Act in the wake of the Enron and other similar episodes was an over-reaction, casting onerous and disproportionate burden on small and medium enterprises. Nonetheless retribution for management failures cannot be overlooked. Martin Wolf writing in the Financial Times is quite right in suggesting that it would hardly be comforting for small investors that heads of institutions which run colossal losses can ride into the sunset with astronomical severance packages. Second, restoring the health of the financial system is paramount. Lawrence Summers has argued with credibility that “proper policy regarding valuing assets and forcing their sale depends on distinguishing between prices that reflect fundamentals and prices that reflect current illiquidity. Good policy is an art as much as science, depending as it does on market psychology as well as the underlying realities.” However, who would co-ordinate and catalyse this approach? Third, as sovereign wealth funds increasingly form a significant proportion of the equity of the leading private banks, issues of transparency become relevant. A regulatory regime based on transparency both for recipients and lenders is necessary to prevent subversion of their policies for quasi commercial or political predilection of lenders. So far details of these arrangements are masked in undue secrecy. Fourth, at a time when American political and economic leadership is fragile, a broadened G-8 which includes Brazil, China, India and South Africa has an important and onerous obligation. Collective leadership and concerted action is needed to quell the growing uncertainties. Finally, George Soros seeks a new sheriff for global finance, which would include public and private entities. What about the old sheriffs like the Basel-based International Bank of Settlements and the twin Bretton Woods sisters? There may be no better time than now to initiate a major reform of multilateral global institutions. But there seems to be excessive ad-hocism and fumbling on who and in what form these initiatives can be taken when the US, the traditional leader, is not getting its act together. Issues of coupling or de-coupling may be exaggerated. However an orderly management of perceived risk for 2008 is central to global prosperity. Redesigning the architecture of global finance may be a starting point.
